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pocket can tell you instantly to which class each coin belongs.
Comparatively few people, however, can tell you about the
different pieces of paper money in their pockets.

The first three forms of paper currency mentioned in the
above outline may be called warehouse receipts. For the con-
venience of the people the Federal Treasury issues these
receipts in return for deposits of other forms of money. If, for
example, one has a large quantity of gold or silver coin, and
desires something more convenient, he may deposit the coin
with the Secretary of the Treasury and receive in return gold
or silver certificates. These merely certify that the coin has
been deposited in the Treasury. These certificates then circu-
late as money. Gold certificates are issued against deposits of
gold, and silver certificates against deposits of silver. A silver
certificate, for example, reads : " This certifies that there have
been deposited in the Treasury of the United States of
America silver dollars, payable to the bearer on demand."
The Treasury notes were issued in the purchase of silver
bullion under an act authorizing such purchase. They have
almost disappeared from circulation, having been redeemed by
the coinage of the bullion for the purchase of which they were
issued. The United States note, popularly known as the green-
back, is issued by the Federal government as pure credit cur-
rency. It has on its face, among other things, " The United
States of America will pay to the bearer - - dollars." The
issue of these notes was authorized by act of Congress during
the Civil War as a means of financing the war ; that is, as
a means of paying the obligations of the government. The
amount then authorized, with only a slight reduction, has been
kept in circulation ever since. The national bank notes are
technically known as national currency. They are secured by


United States bonds or other securities deposited with the
Secretary of the Treasury. They are issued to the bank mak-
ing the deposit, and bear on their face the name of the bank.
It is the bank, however, which agrees to pay, rather than
the government ; the government merely stands back of the
bank. A bank note has on its face, among other things, " The

- National Bank of will pay to the bearer on

demand dollars."

The Federal Reserve notes are issued to the Federal Reserve
banks by an agent of the United States Treasury. They
are sent to the member banks by the Federal Reserve banks
in return for deposits of commercial paper, and are then put
into circulation by the local, or member, banks. The Federal
Reserve bank notes are used as yet only to a small extent.
They are issued to the Federal Reserve banks by the United
States Treasury in return for deposits of government bonds,
being in all essentials like the national bank notes which they
are intended to replace.

Standard money. Among all these forms of money there is
one which is known as standard money, that is, gold coin.
The value of the gold coin depends on the value of the mate-
rial of which it is made. So long as the present policy of the
government is maintained, the value of a gold coin can never
vary appreciably from that of the metal which it contains. One
reason for this is that the government will undertake to coin
all the gold that is brought to the mint and to charge nothing
for the work of coining, except the value of the alloy which is
put in. Since this alloy also has some value, this virtually
means that if you bring to the mint not only the gold but also
the other materials which go into the coin, in the proper ratio,
the government does the work of coining free of charge ; you
merely supply the raw material. When, therefore, there is even
the slightest tendency for the value of coin to rise above that
of bullion, men will anticipate this tendency by taking bullion
to the mint. Since coin is easily melted down into bullion, if


bullion showed the slightest tendency to exceed coin in value,
that would be anticipated by melting coin down into bullion.
These two processes make it practically certain that, so long as
the government can maintain its policy, gold coin and bullion
will be identical in value.

Token currency. Gold is the only form of money now in
circulation in the country which is actually standard money.
The exchange value of a silver coin is much greater than that of
the metal of which it is made. The same is true of the nickel
and bronze, and conspicuously true of the paper. The general
name applied to these other forms of money is token currency.
They are accepted in exchange not because of the value of the
material of which they are made but because they stand as
tokens, or representatives, of some other form of value. With
the currency certificates, gold certificates, and silver certificates
this is perfectly plain. The certificates are merely tokens rep-
resenting that which has been deposited. With the bank notes
it is equally plain, becafuse the bank agrees to pay other forms
of money. Even with the silver coins, while there is no
direct agreement to exchange gold for them, the practice pre-
vails. In addition to this, and quite as important also, is the
fact that the government itself receives all these forms of
currency in payment of obligations to itself. Thus, you can
pay your taxes, you can buy postage stamps, you can pay cus-
toms duties, and any other obligation which you owe to the
government, in these other forms of currency. Technically the
United States notes, or greenbacks, are not legal tender for
payment of customs dues, but as a matter of fact they are
receivable. By legal-tender currency is meant any currency
with which you can pay a debt and compel the creditor to
take that or nothing. You can offer, or " tender," him the
amount of the debt, and he cannot demand some other form of
currency. Most of our forms of currency are legal tender for
any amount, except our smaller coins, which are legal tender
for only limited amounts. They thus represent in that indirect


sense a real value, or they serve these valuable purposes for
their possessors. In the third place, some of them are declared
to be legal tender ; that is, you can pay your debt, not only to
the government but to anyone else to whom you owe money,
by offering various forms of token currency as well as by
offering gold.

The question has frequently been raised, Why use such ex-
pensive materials as gold and silver for money ? Would not
some cheap substance, such as paper or aluminum, serve equally
well ? Many long and heated controversies have been waged
over this question. The so-called "hard-money" school have
taken the position that the government cannot make money,
it can only stamp money. The stamp merely serves as a certifi-
cate of its weight and fineness ; the market itself must then de-
termine its value. The " soft-money " school, on the contrary,
have pointed to many historic instances in which cheap ma-
terials have actually served as money and circulated at a value
which bore no relation to the value of the substance of which
it was made. The truth seems to be summarized as follows :
i. Long-established customs, in a country such, for example,
as China, where custom rules supreme, may enable a kind of
money to circulate at a customary value regardless of thd
commercial value of the material of which it is made. 2. A
government which is in the habit of using a great deal of
compulsion, as in Germany, over a people who are in the
habit of submitting to authority and compulsion, may by its
own decree cause money to circulate at legally established
rates without regard to the commercial value of the substance
of which it is made. But a government which is not in the
habit of exercising a great deal of compulsion, and a people
who are not in the habit of submitting to it, have to rely
mainly upon voluntary agreement among individuals in most
of the relations of life. 3. Where voluntary agreement rather
than government compulsion is mainly depended upon, it has
hitherto proved impossible to get people to voluntarily agree


upon any substance as the material for standard money except
something which had a value as raw material commensurate
to its value as money. 4. Cheaper substances may, however,
be used in limited quantities as token money even in liberal
countries where everything is done by voluntary agreement,
(a) when standard money will be exchanged for it ; (b] when
the government will accept it in payment to itself ; (c) in small
quantities when the government exercises its authority by com-
pelling a creditor to accept it in payment of a debt when
offered by a debtor. This, however, is an exercise of compul-
sion, but it is one to which many even of the liberal govern-
ments resort.


Need of institutions to deal in credit. In view of the fact
that credit supplies so important a part of our circulating me-
dium, it is natural that a special class of institutions should
arise which deal primarily with credit. These institutions are
called banks. The term bank originally meant the bench
before which the money changer sat, with his coins stacked
up before him. When he failed in business, his bench was
broken up, hence the word bankrupt.

Receiving deposits and making loans. The original busi-
ness of the bank was ostensibly to deal in money, but out of
this has grown the business of dealing in credit. Lombard
Street became the banking center of London, from the fact
that it was occupied by goldsmiths from Lombardy. They
had to have safes in which to store their valuables. During
the turbulent times of the sixteenth and seventeenth centuries
certain worthy Londoners used to deposit not only their valu-
ables but their money with these goldsmiths for safe-keeping.
Having so much money on hand, the goldsmiths began gradu-
ally to lend out small sums, always taking precautions to keep
enough on hand to meet the demands of depositors whenever
they were presented. This business of receiving deposits and
making loans, which is the essence of all banking, eventually
became more lucrative than the trade of the goldsmith. More
and more, therefore, they gave up their original trade and be-
came dealers in money and credit ; that is, receiving deposits
and making loans. These two things are still the fundamental
purposes of a bank. The depositors came to recognize the



legitimacy of this business, and it became respectable and
well established, and is now one of the most important of all
forms of business.

Making money more active. While, as stated above, the
essential work of a bank is to receive deposits and make loans,
by doing these things it performs certain important functions
in the national economy. One of these functions is to take
money which would otherwise have remained inactive and put
it to work, thus making it active. The individual who has a
fund of purchasing power which he does not care to invest for
the time being may deposit it with a banker ; someone else
who has an opportunity for investment, that is, for the active
use of capital, may go to the banker and borrow it. The
banker is therefore the middleman who stands between the
one who has money to spare for which he has no immediate
need and the one who has a need for capital which he does
not possess. Without the banker these two men might have
difficulty in finding each other. The banker at least saves
them time and trouble. It is very much the same function as
that performed by any other middleman. The producer of
material products does not have time to peddle his goods
among consumers, and the consumer does not have time to
search for a producer who has for sale exactly what he wants
to buy. Both go to the merchant, the one to sell his sur-
plus, the other to buy his supplies. The merchant saves both
of them the trouble and earns an income in return for the
service which he performs.

Savings banks. The depositor may prefer to leave his money
on deposit for a long time or for a stated time, or he may
prefer to deposit it on condition that he may withdraw it at any
moment when it suits his convenience to do so. The former
class of deposits are commonly called savings deposits, and the
latter, deposits subject to check. The savings banks are a
special class which receive savings deposits, whereas the
ordinary commercial bank receives deposits subject to check.


Origin of the bank check. Originally, when a depositor in
a bank wished to make a payment to another person, it was
necessary for the depositor to withdraw his money from deposit
and hand it to the payee. A little later the custom grew up
of going in person to the bank and authorizing the bank to
transfer a certain sum from the payer's to the payee's account.
The payee could then draw out the money as he needed it.
From this it was an easy step to the custom of giving the bank
a written order to pay a certain sum to another person. This
written order became known as a bank check. These checks
proved so convenient that they became one of the principal
means of making payments. A, who wishes to pay money to
B, merely hands a check to B, a written order on the bank.
B may then withdraw the money, or he may deposit the check
and have the sum transferred from the payer's account and
credited to his own account, or he may indorse the check and
pass it on to a third person. This third person may pass it
on to a fourth, and so on almost indefinitely. Sooner or later,
however, some individual who receives the check will deposit
it with his own bank. If it happens to be the same bank on
which it was originally drawn, the matter of transferring the
account is very simple. If it happens to be another bank, and
there happen to be a great many banks in the same business
center, each one receiving, in the course of the day's busi-
ness, a great number of checks on all the others, a somewhat
complicated problem is sure to arise. This is the problem of
bank clearings. A bank draft is merely a check on one bank
drawn by another bank. A certified check is a private check to
which the bank on which it is drawn certifies, or the payment
of which it guarantees.

The clearing house. The vast increase in the use of bank
checks in the making of payments long ago created the neces-
sity for a special institution known as the clearing house. At
the close of each day's business every bank in a large commer-
cial center finds itself in possession of a number of checks on


each of the other banks. Originally messengers were sent the
rounds, carrying bundles of checks. This was both a cumber-
some and an expensive process. In order to save time and
shoe leather these messengers formed the habit of meeting at
certain places at certain hours and exchanging their bundles
of checks, keeping records of all such transactions. By this
simple process the messenger from one bank would receive all
the checks on his own bank from the messengers from the
other banks, and at the same time he would deliver to the
messengers from each of the other banks the checks on their
respective banks deposited with his bank.

From this it was an easy transition to the organization of a
regular clearing house, which eventually became the heart of
the whole financial district. The late Charles F. Dunbar
describes the process as follows: 1

This medium of payment acquires great perfection wherever the Clearing-
House system is adopted. Under this system there is a daily meeting of
clerks representing all the banks carrying on business at any common center.
Every bank there turns in at a central office all the checks and cash demands
which it holds against others, and is credited therewith, and is also
charged with all checks and demands brought against it in like manner by
others. The checks and demands which have thus been credited to and
charged against each bank are then summed up, and the balance found to be
owed by or due to each bank, as the case may be, it then pays to or receives
from the central office in money. By this means a great mass of trans-
actions, which would otherwise require a series of demands by each bank
upon every other in the same place, are settled at once, and the transporta-
tion of large sums in cash from one bank to another is to a great extent
dispensed with.

The bank deposit, circulated by means of checks, is the most convenient
medium of payment yet devised. A stroke of the pen transfers it in what-
ever amount is needed for the largest transaction, and this transfer instantly
becomes the basis for fresh operations, with as complete security against
accidental loss as can be imagined. In the strict economic sense this
medium no doubt has rapidity of circulation in a high degree, while in the
sense of actual activity of movement in a given time it far outstrips money

1 The Theory and History of Banking. Third edition, enlarged by Oliver
M. W. Sprague. G. P. Putnam's Sons, New York and London, 1917.


or notes, and has been well said to be the most volatile of all the mediums
of exchange. Of the entire circulating medium of this country, it forms
incomparably the greatest, although the least considered, part. Depending
for its efficiency solely upon convention, it for the most part eludes the
regulations which legislatures so industriously enforce upon the other con-
stituents of the currency. Indeed, beyond the requirement of a minimum
reserve made by the law of the United States, and of most of the several
states, we may say that the subject is not touched by legislation, in this
country or elsewhere. The necessity for payment in specie or legal-tender
paper upon demand, the chief safeguard of value, is the result of general
provisions for the payment of debts of any kind. And the chief assurance
against excessive expansion on the part of any single bank or banker is
given by the certain demand for prompt and frequent settlement occasioned
by the voluntary establishment of the clearing house, or by the habits of
the community, but not by law.

Since the above was written, the Federal Reserve Act has
been passed and the Federal Reserve system put into operation
in the United States. Dunbar's description of the essential
methods of clearing still applies, but most of the bank clearings
in this country are now done through the Federal Reserve
banks. The clearing house is essentially a banker 's bank, where
banks make their payments to and collect their obligations from
one another very much as private individuals who do business
with the same bank make their payments to and collect their
obligations from one another. The Federal Reserve banks are
now in a peculiar sense fitted to act as the bank for the member
banks, thus taking the place of the clearing house.

When you make a payment to someone in another city,
with whom you have business relations or who knows you
and your solvency, a very convenient method is to send him
a check on your own local bank. He will then present your
check to his own bank for collection. His bank will usually
credit him at once with the amount for which the check is
drawn, and then send the check through a regular groove.
Usually it will send the check to the Federal Reserve bank of
its district, and this Federal Reserve bank will send it either to
the bank on which it is drawn or, if that bank is in another


district, to the Federal Reserve bank of that district, which will,
in turn, send it to the bank on which it is drawn. When the
check gets back to you, you can trace its course by the indorse-
ments on its back. Sometimes the banks find it necessary to
charge a small fee for collecting a check of this kind.

Bank checks do not circulate quite so freely among private
individuals as money, because each check must be indorsed by
each person through whose hands it passes. Therefore a
check will be accepted only from a person whose signature is
known to be genuine. Since, however, paper money circulates
without indorsement, one will accept it from a stranger or a
known rogue unless one has reasons for suspecting the money
to be counterfeit.

Bank notes. Certain banks, such as national banks, have
been permitted to perform the special function of issuing bank
notes and thus providing a circulating medium which answers
the purpose of money if it is not itself a form of money.
These notes have circulated from hand to hand in all respects
as money. They differ from the notes of an ordinary individual
in that they pass from hand to hand without indorsement.
The note of an individual may circulate to a certain extent,
but the laws and customs of business require that it be in-
dorsed by everyone through whose hands it passes. In that
important respect the private note differs from money. It is
the custom for a modern bank note to pass from hand to hand
in full payment of all obligations, without indorsement and
without any regard to the honesty or credit of the individual
who offers it in purchase of a commodity or in payment of a debt.

The Bank of England. In some historic cases this custom
of issuing notes has grown up without the authority of the
government and without any special help from the government,
precisely as the custom of receiving deposits and making loans
has grown up. In most modern countries, however, where
bank notes are allowed to circulate, they are not only authorized
by law but very carefully supervised and safeguarded. The


Bank of England, for example, occupies a position with respect
to the British government somewhat similar to the position
which an ordinary bank in this country occupies with respect
to one of its largest customers. The British government
maintains no separate treasury of its own, but deposits any
surplus money which it may have with the bank, just as a
private firm deposits its surplus money with its own bank.
The British government makes its payments by orders on the
bank, very much as a private firm would make its payments
by check on its own bank. When the British government
desires to borrow money, except in extraordinary cases, it has
generally borrowed through its own bank, the bank merely
serving as the agent of the government in this respect.

In return for various services which the bank has performed,
it has been permitted to issue bank notes up to a certain extent,
1 7>775> oo pounds, secured by debts of the government to the
bank, and to keep them in circulation very much as other forms
of money are circulated. Beyond this quantity it was permitted
to issue notes only under the most rigid restrictions. All its
additional notes, in normal times, are virtually warehouse re-
ceipts similar to our gold and silver certificates. That is to
say, for every note issued an equivalent in gold has had to be
deposited with the bank. These notes were merely conven-
iences to the general public. An individual who did not wish
to carry a large quantity of gold could take it to the bank,
deposit it, and get notes instead. The notes are issued only
in large denominations. Since the outbreak of the present
world war the restrictions upon the issue of notes have been
removed, so that, for the time being, the Bank of England
is permitted to issue notes at will.

The old bank of the United States. In this country the old
bank of the United States was chartered in 1791 for twenty
years. A new charter was refused in 1 8 1 1 , and it went out of
existence. A second bank, similar to the first, was chartered
in 1816, to run for twenty years. Both these banks served


much the same purpose as the Bank of England ; that is, the
United States Bank was in a sense the banker of the Federal
government. It went out of existence, however, in 1836, hav-
ing failed to secure a new charter, partly through the opposition
of President Jackson.

The national banking system. In 1863 the foundation of
our present national banking system was laid, and a series
of national banks was created, partly as a means of making a
market for the bonds which the Federal government was offer-
ing for sale in order to get money with which to carry on the
Civil War. Any bank chartered under this act was permitted
to deposit bonds of the United States with the Secretary of
the Treasury, and in return for these deposits it was permitted
to circulate bank notes up to 90 per cent of the value of

Online LibraryThomas Nixon CarverPrinciples of political economy → online text (page 25 of 48)